IRS plans to make it harder to let families keep their businesses
Most of the comments plead against the proposed changes, which could make it much more difficult for the founders to hand off family businesses to their children and heirs. Maddeningly, the proposed changes actually would produce the inexplicable result of making it less costly for unrelated third parties to inherit assets of an estate than it would one’s own children.
The fundamentally unfair distinction generated by the proposed change would allow nonfamily third parties to avail themselves of discounts on estate or gift transfers of minority stakes, even as such discounts would be eliminated for family members. There is no rationale for this at all, and disparate treatment for transfers between family members is illustrative of the anti-family bias of the proposed rule changes.
Not only are the proposed changes anti-family, but they run against the expressed will of American citizens through their elected representatives and the clear trend in responsible state governments to eliminate the “death tax” entirely. Both the U.S. House and the Senate have voted overwhelmingly to repeal or reduce the estate tax. The Senate adopted a budget amendment as recently as last year (Senate Amendment 607) that would establish a deficit-neutral reserve fund to allow for permanent elimination of the federal estate tax. In addition, 80 senators voted to repeal the estate tax in 2013, when the chamber was still controlled by Democrats. In April 2015, the U.S. House passed H.R. 1105, the Death Tax Repeal Act, by a margin of 240-179.
Heirs given ownership shares in a family business usually are minority owners. Under current regulations, there are 15 to 50 percent discounts available for transfer-tax purposes that reflect the lack of control of minority stakes by allowing them to be taxed at the generally diminished fair-market value. The standard valuation of family-owned business under the nearly 50-year-old Revenue Ruling 59-60 – based on how a hypothetical buyer and seller would price an asset if they were engaging in an arms-length transaction – has worked only because it has been grounded in the realities of the marketplace, which these changes could compromise.
Owners of family businesses also fairly often put restrictions on the sale of shares given to their heirs to assure that ownership of the company stays with family members. The proposed rule change would override restrictions imposed under state law that limit a family member’s ability to liquidate a business – restrictions that generally no longer apply once the interest has been transferred. The transfer tax discount in these cases, which can exceed 30 percent, often is the single largest factor that appraisers assign to businesses’ value adjustments. Eliminating this discount correspondingly would increase the value of a taxable estate by 30 percent or more.
If these changes are adopted, it would mean reinstitution of the discredited “family attribution” doctrine, which considers the aggregate control held by all family members for purposes of valuation. The IRS rejected “family attribution” in February 1993 with Revenue Ruling 93-12, which opened the door for significant transfer tax savings by allowing, for example, the sole stockholder of company to give a 20 percent interest to each of his five children, and still enjoy the minority discount when valuing those shares. This ruling was in line with the U.S. Fifth Circuit Court of Appeals’ 1981 decision in Estate of Bright v. United States, which held that lack of control discounts cannot be legitimately denied just because the interests are transferred from one member of a family to another.
Returning to the family attribution doctrine would mean tax increases of 25 to 50 percent on estates, including family farms, but also family businesses as far and wide as community pharmacists, forest landowners, printers, truck leasing operators, gas stations, liquor stores, restaurants and dry cleaners. The result is a disincentive to succeeding generations to carry on with family businesses. Some will take on more debt to pay the tax and others will be forced to consider selling out or liquidation. At the very least, capital improvements will be delayed or foregone. Any of these outcomes is destructive to small business and to the economic landscape.
The federal government always has a plan to generate more revenue. A proper way to do that would be to enforce provisions of federal law that require agencies that spend money to recapture misspent money identified in recovery audits. The Government Accountability Office identified $124.7 billion in improper payments in 2014, attributable to 124 programs spread among 22 federal agencies. The Centers for Medicare & Medicaid Services estimates there were $45.8 billion in improper payments from Medicare’s fee-for-service program between July 2012 and June 2013.
This is way more revenue than can be squeezed out of families trying to preserve their businesses for one generation to the next, and it’s already a federal requirement.
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